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It’s been a bumpy ride for the software category known variously as spend management, supply management, sourcing management, supplier-relationship management, total-cost management, spend analysis, and, from way back (circa 2000), E-procurement. That so many labels can be applied to the same concept hints at the difficulties this category has had in fully defining itself. Those problems include a mix of dot-com hype, technological complexity, and entrenched ways of doing business—which have proved resistant to change regardless of what technology makes possible.

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Despite those challenges, the basic concept of using technology to ease the many processes involved in buying goods and services, and to ultimately reduce costs in a number of ways, remains powerful enough to inspire vendors and customers to forge ahead. While the market for spend-management software, currently about $1.75 billion, was essentially flat in 2004, analysts expect a 3 percent rise this year and say that this figure is misleadingly low because vendor competition and new, lower-cost options such as hosted services mean that corporate adoption will be higher than revenue alone indicates.

Spend-management software relies on linguistic analysis algorithms to extract, cleanse, and classify, (by product, supplier, and other criteria) the messy data contained in invoices, purchase orders, contracts, and other purchasing records. The goal is to automate the way toward a closed-loop of spending analysis: determine from whom the company buys goods and services; narrow (or improve) the supplier base and negotiate better terms; manage contracts efficiently; and analyze the actual corporate spend.

In the past, such analysis meant bringing in a herd of consultants to thrash through the paperwork and produce a one-time snapshot of spending. That’s a far cry from an embedded and largely automated process. But experts say that the ability to drill down into a company’s spending habits is essential to cost-cutting efforts because most of the obvious targets (layoffs and elimination of or reductions in various forms of discretionary spending) have already been hit.

“For people who live in the world of ERP and general ledgers, it’s very hard to get your arms around spend information,” says Jim Frankola, CFO of Ariba, a pioneering spend-management software company that in some ways can serve as a proxy for the entire industry (in September 2000, its stock price topped $1,400 a share; today it stands at $13, which is nearly double what it was last August). At his previous company, Frankola once tried to ascertain what the firm spent on shrink-wrap. Information on those purchases was scattered across multiple systems, and coming up with the total figure—which might have helped in negotiating a discount—required plenty of digging.

Bill Gunn can relate. Hired two years ago by Gap Inc. to head up its nonmerchandise procurement organization, Gunn takes advantage of the daily business-intelligence feature in the company’s Oracle ERP system to “have at our fingertips the supplier spend data that used to take three or four months to gather.”

With more than 3,000 Gap, Old Navy, and Banana Republic stores nationwide, Gunn’s company has what he describes as “a real hidden asset in our nonmerchandise supply chain,” which includes the vast network of suppliers that play a role in opening and maintaining all those stores. With a fourth, as-yet-unnamed brand aimed at women over 35 in the works, Gap wants to manage those suppliers as efficiently as possible. The spend-management capabilities in the Oracle software, Gunn says, address all facets of the process, including the critical but often-overlooked back-end analysis.

“In the past, we’d contract for certain pricing and related terms,” he says, “but we had no way to know whether those agreements were adhered to. Most agreements have plenty of variables that can affect the ultimate spend, so it’s not enough to negotiate terms up front that satisfy you. You have to follow through and see how the spending actually played out.”

“There’s no clearer or more direct lever to improve financial performance than to focus on spend or procurement,” says Tim Minahan of the Aberdeen Group, a Boston-based IT consulting firm. “While every additional dollar in revenue a company earns entails significant costs in sales and overhead, every dollar saved drops straight to the bottom line.”

Once you back out the cost of the software and associated process and organizational changes, of course. But those changes often provide an impetus for spend-management software investments. Nate Lentz, CEO of Verticalnet, a provider of supply management software and consulting services, says that often as a result of acquisitions, many companies now want to centralize spend efforts rather than negotiate and source at a divisional level. “When they do spend analysis across the corporation, they discover an enormous opportunity to leverage their scale for both direct and indirect materials,” he says. Or as Faheem Ahmed, head of market strategy for supply-relationship management at ERP vendor SAP, says, “Purchasing is moving from being tactical to being strategic.”

Companies interested in spend-management software have no shortage of products from which to choose, but those products tend to fall into distinct categories. Some provide a broad technology platform that can accommodate virtually any purchase a company might make. Others address a distinct category of spend, be it raw materials or services such as contract labor. And some are narrower still, focusing only on a specific expenditure such as telecommunications, travel, or facilities maintenance.

While some analysts maintain that spend-management software is a big-ticket item of interest only to companies with at least $1 billion in revenue, there are new, smaller vendors that charge as little as $10,000 to start (as opposed to a tab of $1 million or more on the high end), and they usually offer their services in a hosted model, requiring virtually no changes to a customer’s infrastructure. Monthly charges may be based on a flat fee, volume of transactions that pass through, or other criteria.

Many analysts say that to take full advantage of spend management, companies may have to piece together several packages or services, although there has been plenty of M&A activity in the space as some vendors work toward more-complete offerings. Others are content to combine software and services with consulting help in specific areas in which even a savvy purchasing department might lack the requisite knowledge to craft the best contracts.

That was the case at Wachovia when, following its 2001 acquisition of First Union, which brought its total number of branches to 2,700, an idea to track electricity, gas, and water bills suddenly clicked. “We’d talked about how smart it would be to do this,” recalls Ginny Schlosser, CFO of corporate real estate at Wachovia Bank and former CFO of corporate real estate at First Union, where the idea first took root. The merger, combined with soaring electricity costs at the time, gave the project life.

The bank opted for a software/consulting service from Cadence Networks that not only gives it the clear picture of total spend it needs to negotiate better electricity rates, but also helps it trace wasteful usage, including the location of leaky water lines. The bank now plans an additional step: to reduce energy and water consumption through employee education and other initiatives.

It’s not unusual for spend-management systems to yield double-digit savings—about 15 percent, according to industry watchers. They also cull out the maddening waste that so exasperates many thrifty CFOs—for example, a $75 difference in room rates at the same event in the same hotel. Armed with solid, up-to-the-minute data, companies can identify waste, eliminate rogue spending, negotiate better deals, and in general make better decisions.

Irritability Factor

But there are problems. As the CEO of one spend-management company says, “There’s a growing sense of irritability over what these expensive applications promise and what companies actually get from them. Indeed, another Forrester study found that 35 percent of respondents whose companies had invested in procurement and sourcing technology said the benefits were below expectations. Companies face three challenges: deciding what software (or combination of software) best meets their needs, getting suppliers to cooperate, and making the organizational and process changes within their own companies that are needed to move away from business as usual.

Also hanging over the greater adoption of spend-management software is the bad taste left in many people’s mouths by the earlier foray into E-procurement, which tended to focus less on analyzing spend data and more on reducing transaction costs.

Managing the relationships with suppliers is also tricky. As Minahan warns, “You can only negotiate a 15 percent discount from your suppliers for so long before you put them out of business—you’re sucking the fat out of the suppliers’ profit margins.” Zealous users of online auctions, trading webs and early E-procurement systems now take a more holistic view of the entire procurement cycle, versus focusing solely on negotiating costs.

GlaxoSmithKline knows this learning curve: in 1997, before it had become part of GlaxoSmithKline, pharmaceutical company SmithKline Beecham developed an internal procurement system dubbed SpendTrak that it believed put the company ahead of its competitors. “But SpendTrak only allowed us to do coding at a supplier level, not the granularity required to perform compliance reporting on preferred suppliers,” explains R. Gregg Brandyberry, vice president of procurement for global systems and operations at GlaxoSmith-Kline. The company could see how much it spent with IBM, for example, but it couldn’t get a quick read on a specific contract. “Especially on certain indirect goods and services,” says Brandyberry, “we wanted to make sure we weren’t overbuying, or that the specification was for what we actually needed.”

Beginning in 2004, GlaxoSmith-Kline installed Emptoris spend-analysis software and began to get granular, making sure that spending follows the terms of carefully negotiated contracts. The software also helps the company get a sense of the performance of vendors supplying various indirect goods, so that, as Brandyberry says, “We can ask ourselves, ‘Do we need to buy Superbrand X when another brand will do?'” Glaxo is now ascertaining whether the system can be expanded to encompass spending on a broad range of services.

“CFOs are getting smarter about this,” says Aberdeen’s Minahan. “As a result, the buying organization is taking a more holistic look at their supplier relationships.” Gone are the days when buyers focused intently on reverse auctions to drive down the prices of goods. “Now,” says Minihan, “CFOs are checking the P&Ls and asking, ‘Where do those savings show up?'”